Alpha - September 2007 - (Page 66)

13030 Hedge fund advantages in rolling out 130/30 funds include shorting expertise, prime brokerage relationships and risk management as 175/75 or 180/80, but we’ll see after the market’s recent turmoil how much risk appetite there is for that sort of thing.” State Street Global Advisors launched its first 130/30 fund in 2004. It now has more than $10 billion in 130/30 funds measured against 14 different benchmarks, ranging from large-cap and midcap US stocks to global, regional and even country-specific products. “We’ve got everything now from 110/10 to 130/30,” says Thomas. “But we might play with some ratios and possibly go to some other benchmarks, such as small caps.” The received wisdom is that quant managers, such as State Street, have a built-in advantage over fundamental managers in rolling out 130/30 funds, as they already rank all the stocks in their universe, Ric Thomas good and bad. All they need to State Street do is activate the shorts. “It’s an easier sell for the quants. We’ve always ranked all our stocks, good and bad, every night, so it’s easier to show a back test,” says Thomas. “But anyone who has some disciplined process that is repeatable can succeed in this. That’s possible for fundamental and quant managers.” Indeed, traditional bottom-up, fundamental managers are introducing or incubating these products, too. Pyramis Global Advisors, which launched its first 130/30 fund this summer, is one firm that’s pursuing a fundamental-based strategy. “Today, the majority of long/short products offered by our competitors are quantitative-based strategies, whereas ours is fundamentally based and unique in that it relies on a team of sector portfolio managers,” says Young Chin, chief investment officer at Pyramis. He says the performance of both his firm’s incubated large-cap core 130/30 strategy and its US marketneutral strategy is compelling. “This specialized role ensures that we can focus on identifying the best long and short ideas consistent with respective areas of expertise,” Chin says. Turbulent Markets Given the stock market’s volatility in August, and the trouble some quant funds got into as a result, it would be tempting to conclude that quant-managed 130/30 funds have lost some luster. But Calderone at Credit Suisse says this is not the case. "I felt a lot of people were overgeneralizing about the impact the volatility in early August had on quant managers,” he says. “The inference was that quantdriven 130/30 products would also have poor performance, when in fact many of the quant managers I spoke to said their overall performance in August was within their expected tracking error. Those that have a fundamental basis with a quant overlay have done particularly well. The quant managers that got hurt were those that were highly levered, and 130/30 funds do not fall into that category." Hedge funds have clear advantages over long-only managers in rolling out 130/30 funds. Equity-focused funds are used to shorting stocks. They are experienced in generating alpha. And they already have the prime brokerage relationships and the administration and risk management that going short entails. The other side of the coin is that traditional managers have the clients – namely, the pension funds responsible for the bulk of assets in 130/30 products. “The same hedge funds that began offering longonly funds a few years ago will now probably offer 130/30 in order to create a suite of products,” says one prime broker. ”But typically, they don’t have the pension investors. We have seen a few say they can offer 130/30 because they can short, but they are basically looking for introductions to pension funds on the capital side.” Potentially, the ability of long-only funds to compete in the 130/30 market could slow the quest by some hedge funds to tap into that equity allocation portion of client investment portfolios. However, the idea that traditional fund managers are going to challenge absolute-return funds, or start assaulting their overall fee structure with a 130/30 product, is inaccurate, according to State Street’s Thomas. “These funds could compete with equitized market-neutral hedge funds, as 130/30 has virtually the same profile, but that’s only one part of the hedge fund universe.” Shaffer says that, given the fact that 130/30 is a beta-one product, the idea that traditional long-only fund managers must alter their investment approach in order to consider 130/30 products is inaccurate. "What people don’t appreciate is that the 130/30 model is not trying to change the expected return of the manager, put him in a different investment 4 • Alpha Sponsored Report • September 2007

Table of Contents Feed for the Digital Edition of Alpha - September 2007

Contents Letter from the Editor Longs & Shorts Pension Corner: Keeping the Faith The Good Guys: Going Public Interview: Barry Bausano - A Delicate Balance Cover Story: Cruel, Cruel Summer Profile: Phil Cooper - Alternative Flight Plan Strategies: Marshall Wace - TOPS in Its Field Profile: Fortis Investments - Banking on Alternatives Research Center: Top Equity Trading Firms Alpha Bytes: Desktop Duel Unhedged: Commentary - The Taxman Cometh

Alpha - September 2007

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